Our focus determines our reality. There is a lot of truth to this statement. Psychologists tell us that too much focus on self leads to anxiety and depression, while focus on others leads to joy. Late last year we hosted a small party for my son’s 14th birthday. One of his friends unfortunately broke his arm during the party and we had to drive him to the emergency room at Atlanta’s children’s hospital. While he sat there in the ER waiting to be seen by the doctor, another boy came in with two broken arms. Our son’s friend said, “He must really be hurting, I guess I am pretty lucky.” It would have been easy to focus on his own broken arm, but he was focused on others.
What a great life lesson, and it holds true in the markets as well. Currently we are focused on Russia’s invasion of Ukraine and all of the geo-political tension that goes with it. That has put the market in a foul mood. We are in correction territory for the S&P 500. The index was up 11 percent in the 4th quarter of 2021 so some perspective must be given even on that statement, but still, a more-than-10 percent drop from highs is not fun.
This situation with Russia is serious and I do not want to suggest otherwise. I personally believe that Putin is a very dangerous man who needs to be stopped. Having said that, our focus here is financial, and this is not a real threat to the market. Sure, it can cause a temporary selloff as it has already done – but eventually the market’s focus will move on and we will see a rebound. There have been false starts as companies report good earnings and markets open positively. Thus far, the markets have lacked the strength to maintain that momentum throughout the day.
We may be in this pattern for a while. We did not foresee Putin flexing his muscles over Ukraine as an issue when we entered 2022, but we did see a tension between poor economic data and positive company earnings reports. When the market is focused on the big economic picture we are likely to see stocks go down, as the rate of growth has slowed and in all likelihood will continue to slow. Russia has just added one more negative thing on which the market can focus.
In the interim, expected returns for the stocks we follow are the highest they have been in several years. Earnings are being inflated, like everything else in our inflationary environment, and the stock prices have been cut. Lower prices and better actual results make for higher expected future returns. Of course, there is no guarantee – there never is – but this usually bodes well for future market returns.
At this moment we still see this downturn as an opportunity for long-term investors to pick up some bargains. What would change that? If we started to see companies report deterioration in their actual business results. This is what we mean when we say that we invest in companies and do not trade stocks. Stocks are pieces of paper – in truth they are not even that anymore, they are digital notations, but “pieces of paper” still sounds better. Pieces of paper react to all sorts of unrelated news. Being unrelated does not mean that the news is unimportant; what is happening in Eastern Europe is certainly important. It simply means that it is unrelated.
Russia and Ukraine have little to no impact on how many iPhones are sold, or how many Cokes are consumed. The tension between them impacts stocks much more than it impacts actual companies. This is how investment opportunities are made, when the price of the stock for some reason does not reflect the actual value of the company.
This doesn’t mean it will all be smooth sailing from here. The market can focus on the wrong things for a long time, but eventually the focus will come back to the actual companies those stocks represent.
We stated earlier this year that we expect returns to be more modest this year. We would be surprised if we see another high teen or even twenty percent year, but would be even more surprised if we end the year down. We still believe that, and that means up from here. Focusing on the state of global politics is often depressing. Focusing on what is actually happening with companies in which we are invested is far more joyful, and fortunately for us, that is what drives long-term results.
Warm regards,
Chuck Osborne, CFA
Managing Director
